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Under pressure again
Publication Date : 08-01-2013
The rupiah, already one of last year’s worst performing currencies in the world with depreciation of almost 6 per cent, again came under pressure in the first week of this year, even though the economy was estimated to have expanded by 6.3 per cent last year, the world’s second-highest growth after China.
When the local currency fell to a three-year low of 9,785 to the US dollar in the middle of last month, the central bank explained the downward pressure was caused by cascading impacts of a year-end surge in demand for US dollars as foreign companies fulfilled obligations to transfer profits to their principals overseas.
However, the downward pressure on the rupiah last week can no longer be described simply as a cyclical trend, especially because the weakening took place on the heels of the central bank announcement last Thursday of a significant increase in the country’s foreign exchange reserves to US$112.8 billion as of early January. This reserve is more than enough to finance six months of imports.
Bank Indonesia Deputy Governor Hartadi A. Sarwono attributed the foreign reserve increase to a balance of payments surplus booked last year despite the $1.33 billion cumulative trade deficit in the first 11 months, compared to the $23 billion trade surplus in the same period in 2011. This means that the country enjoyed big flows of foreign direct investment and portfolio capital last year to offset the current account deficit.
Hartadi again assured the market on Friday that the rupiah would appreciate this year as Indonesia is likely to post a larger surplus in its balance of payments, because the country will remain a major destination for foreign capital flows, both in the form of direct and portfolio investments.
However, such reasonable assurances, though necessary, are not enough. The local currency will remain under pressure if the trade deficit continues to increase sharply due to a steady rise in imports of building materials, capital goods and basic industrial goods in sharp contrast to a steady fall in exports due to the weakening global economy.
This is the dilemma Indonesia is facing now. Imports cannot be trimmed because as the country accelerates the pace of investment in infrastructure, imports of capital goods and building materials will surge as well.
The central bank will face bigger challenges in managing the external balance to protect the rupiah from sharp depreciation, because a much weaker currency will raise the costs of imports (imported inflation), thereby increasing inflationary pressure.
True, the widely estimated decline in global oil prices this year could decrease fuel imports and consequently ease the pressure on the rupiah. However, a drop in oil prices will be made meaningless in terms of the costs of oil imports if the rupiah weakens significantly.
Theoretically, as foreign direct and portfolio capital is mostly predicted to continue flowing to the country, the rupiah should not weaken significantly this year because the current account deficit could be offset by the capital accounts surplus.
However we do not think the recent pressure on the rupiah was fuelled only by the concern over our external balance. More foreign investors seem to have been worried by policy inconsistency in several areas — a new wave of uncertainty in the mining sector as the 2009 Mining Law is now under judicial review at the Constitutional Court, the untimely introduction of import measures that smack of new non-tariff barriers and a mounting bout of nationalistic sentiments have also added pressure on the rupiah.